Problem 8-35 Nonconstant Growth [LO1] Storico Co. just paid a dividend of $3.00
ID: 2642926 • Letter: P
Question
Problem 8-35 Nonconstant Growth [LO1]
Storico Co. just paid a dividend of $3.00 per share. The company will increase its dividend by 20 percent next year and will then reduce its dividend growth rate by 5 percentage points per year until it reaches the industry average of 5 percent dividend growth, after which the company will keep a constant growth rate forever. If the stock price is $51.01, what required return must investors be demanding on Storico stock? (Hint: Set up the valuation formula with all the relevant cash flows, and use trial and error to find the unknown rate of return.) (Do not round intermediate calculations and round your final answer to 1 decimal place. (e.g., 32.16))
Storico Co. just paid a dividend of $3.00 per share. The company will increase its dividend by 20 percent next year and will then reduce its dividend growth rate by 5 percentage points per year until it reaches the industry average of 5 percent dividend growth, after which the company will keep a constant growth rate forever. If the stock price is $51.01, what required return must investors be demanding on Storico stock? (Hint: Set up the valuation formula with all the relevant cash flows, and use trial and error to find the unknown rate of return.) (Do not round intermediate calculations and round your final answer to 1 decimal place. (e.g., 32.16))
Explanation / Answer
Hi,
Please find the correct answer as follows:
Let the required rate be R
=>51.50 = 3.6/(1+R)^1+4.14/(1+R)^2+4.55/(1+R)^3+4.78/(R-5%)*(1+R)^-3
By hit and trial we get,
R = 13.0%
Hence, 13.0% is the correct answer